Updated: Oct 10
Investment Climate in the Real Estate Sector
Rate increases, recession, falling prices, and higher costs – doom and gloom seem to dominate the headlines these days on all investment fronts, from crypto to real estate and stocks. These are the times when it is best to take a step back and re-evaluate your investment goals. It bears repeating that real estate is a long-term investment. If you purchased property in December 2021 hoping to double your money by June 2022, you are probably in for a surprise. The market has softened considerably since then, due to aggressive rate hikes by the Bank of Canada. However, when looking at the year-over-year numbers, the average price of homes sold in May 2022 was $850,037, a gain of 23.1% from May 2021. That's hardly a bear market, even if prices have come down since January. Let’s dive into some of the factors driving the market today.
People shop for payments, not just prices. When the cost of borrowing goes up, the prices of homes either come down to match, or more people get priced out of the market. Where will rates go from here? If you believe what the Bank of Canada forecasts, there will be another 5 or 6 rate hikes this year. It’s almost guaranteed that there will be another 0.75% increase in the overnight lending rate at the next policy decision in July 2022. That will push prime rates to 4.45%. I would argue that as more free cash flow gets eaten up by higher interest rates, consumer spending will slow, inflation will decrease, but prices will remain elevated. Recessionary forces will loom on the horizon, and we might start to see rate cuts by next year. Yes, cuts.
Fewer homes are being sold. On a year-to-date basis, home sales totaled 3,569 units over the first five months of the year. This marked a decline of 24% from the same period in 2021.
Prices are still elevated on a year-over-year basis. The MLS® Home Price Index (HPI) tracks price trends far more accurately than is possible using average or median price measures. The overall MLS® HPI composite benchmark price was $790,500 in May 2022, a substantial gain of 22.1% compared to May 2021.
More homes are coming onto the market, but active listings are still low. The number of new listings saw a substantial gain of 20.4% from May 2021. There were 1,613 new residential listings in May 2022. This also marked the largest number of new listings added in the month of May in history. Active listings were 5.6% below the five-year average and 19.6% below the 10-year average for the month of May.
Months of inventory are still below average. Months of inventory numbered 2.4 at the end of May 2022, up from the 0.9 months recorded at the end of May 2021 and below the long-run average of 2.6 months for this time of year. The number of months of inventory represents the number of months it would take to sell current inventories at the current rate of sales activity.
What does this mean?
People are approaching the real estate market with caution. Homes are still selling; however, people are not encountering multiple offer situations as frequently as before. The wait-and-see approach seems to be the name of the game. There is still high confidence in the market, but the exuberance seen earlier is gone.
We are experiencing a liquidity crunch. If you are like me, you own some long-term properties that have been relatively unaffected by rising rates, but you also have some properties that were purchased in the last 12 months and are now in a negative cash flow scenario due to rising rates. The numbers looked great when variable rates were less than 2%, but now that they're pushing 4%, all cash flow has been eaten up, and you find yourself injecting money into the account every month.
The money you make over the next year might only cover mortgage paydown, and that's not necessarily a bad thing. Nothing goes up forever. Real estate is a business. Like every business, there are average years, great years, and bad years. It happens. If you focus on good properties with solid tenant profiles, you will be in a favorable situation over the long term. Make sure you have access to credit, cash, or cash-flowing businesses to help you navigate the rough patches.
Protect Your Purchasing Power
Assets tend to perform well in these environments over the long term. I prefer physical assets that I can control or at least research and understand the fundamentals behind. Here is how I balance my portfolio: I keep enough cash on hand to cover day-to-day expenses and unforeseen circumstances. The rest of my portfolio looks something like this:
Physical gold and silver – 5%
Bitcoin – 5%
Stocks – 15%
Real Estate - 75%
These values fluctuate with the market (a 73% drop in bitcoin, anyone?), but overall, this is the balance that I aim to maintain. This approach might not work for everyone, so find your own way to weather whatever financial storms come our way.
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I'd love to hear your thoughts on this! Have a great week while working past those obstacles on your climb to success. Let's Grow Together!
Real Estate Investor and Entrepreneur
Jonathan Beam is a real estate investor in the Niagara region who is passionate about helping you achieve financial freedom through real estate. He works with new and experienced investors to formulate a plan that fits your specific situation and provides market guidance and consultation on the best places and strategies to pursue within the Niagara Region. Book a free, half hour no obligation consultation to see how he can help you to achieve your goals. His travels are available at www.realestateandrepeat.com
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